Ukraine: Energy Law In Ukraine - Recent Developments In The Ukrainian Energy Market

Recent Developments In The Ukrainian Energy Market

MAJOR REGULATORY DEVELOPMENTS

Law on the Operation of Ukrainian Electricity Market

On 28 October 2013 the Ukrainian Parliament adopted the Law on the Operation of Ukrainian Electricity Market which aims to liberalise the currently highly regulated and rather uncompetitive electricity market of the country. The centrepiece of this law is the provision effectively abolishing the single buyer principle and replacing it with direct contracts between consumers and suppliers. The Law, being the product of a delicate compromise between the ruling Party of Regions and the opposition has some controversial provisions, the most obvious being the creation of a fund to regulate imbalances in demand and supply. It may be argued that the notion that the supply deficit can only be satisfied by electricity generated at nuclear and hydroelectric power stations is a restriction on competition. As the Law is so recent and still remains to be submitted for signing by the President of Ukraine, who may exercise a veto, it remains to be seen how it is going to be implemented and what effect it will have on the Ukrainian energy market.

Law on Renewable Energy

Recent amendments to the Law on Electricity relating to incentives for electricity generation from alternative energy sources were passed by the Ukrainian Parliament on 20 November 2012. They established new rules for the renewable energy market and introduced the "green tariff" on electricity generated from biogas. The "green tariff" applies to companies that launched biogas power plants from April 2013. In future the "green tariff" coefficient will be reduced by 10%, 20% and 30% in comparison with the 2013 level for all types of power plants that use renewable energy sources commissioned between 2015 and 2025.

Grid Access Rules

The rules for connecting to the grids of electricity generating plants ("Rules"), approved by the National Commission for Energy State Regulation of Ukraine ("NERC") by Resolution No. 32 dated 17.01.2013, came into force on 28 February 2013. According to the Rules, electricity transmission companies shall not deny access to their grids provided that the applicant meets the requirements of the Rules. The fee for connecting to the grid is determined by the electricity transmitting organisation in accordance with the relevant fee calculation method approved by NERC Resolution No. 115 dated 12.02.2013. In addition, on 11 March 2013, NERC published the draft resolution on approving the financing procedure for electricity grid connection services. According to the above procedure, standard connection services will be based solely on connection fees after entering into an agreement on connection to the electricity grid. Access by applicants' facilities intended for electricity production from alternative energy sources in particular will be financed by 50% from the funds generated by tariffs for electricity transmission ("financial aid") and by 50% provided to customers by electricity transmission organisations. The payback term for such financial aid is up to 10 years.

Bill concerning amendments to the PSA laws

Bill No. 2936 "On Amendments to the Law of Ukraine on Production-Sharing Agreements" ("PSA"), which was registered in the Ukrainian Parliament on 26 April 2013, aims to secure the interests of the local communities where the PSA subsoil areas are located. It stipulates that social and economic cooperation agreements shall be concluded between the PSA investor and local councils where the PSA subsoil areas are located. Entry into such agreements shall be a mandatory pre-condition for entering into the PSA and shall form an integral part of it, setting out the investor's obligation to insure its liability for ecological harm for the benefit of local authorities. At least 10% of the State's share of production under the PSA must be used for the needs of the territories where the PSA subsoil areas are located. Currently the PSA Law does not allocate any share for local needs.

Tax Code amendments bill

Bill No. 2288а "On Amendments to the Tax Code", which was registered in the Ukranian Parliament on 11 June 2013, enables all investors under a multilateral PSA (not only a current operator as under current legislation) to register their own tax accounts for the purposes of PSA. Thus the PSA tax accounting options stipulated in this bill are positive. However, an investor which does not directly operate the facility will have to thoroughly evaluate miscellaneous aspects of Ukraine's tax legislation, especially with regard to complicated administration issues and excessive accounting costs.

National Bank of Ukraine clarifications

Additional safeguard measures as to the banking and monetary operations relating to PSAs are provided by the National Bank of Ukraine ("NBU") in its letter dated 20 June 2013. According to the provisions of this letter the business transactions of investors (their representative offices in Ukraine) are exempt from a row of excessive monetary and banking restrictions.

ELECTRICITY

Decrease in demand for electricity

Electricity consumption between January and July 2013 fell by 4.1% or by 3.897 billion kWh, year-on-year, to 92.008 billion kWh. Ukraine's industry cut electricity consumption by 7.6% (not including in-process losses in the grids) to 33.247 billion kWh. Electricity consumption by households in Ukraine in the same period was up by 0.8% to 21.054 billion kWh and municipal consumers saw a 0.9% decline in electricity consumption to 9.42 billion kWh. The share of industrial electricity consumption in the period January–July 2013 shrank to 44.8% from 46.7% year-on-year, while the share of retail consumption increased from 27.1% to 28.3%. In addition Ukraine increased electricity exports by 15% in the first half of 2013 to 4.962 billion kWh.

Dniester PSPP launch

According to the Ministry of Energy and Coal Industry the first phase of Dniester Hydroelectric Pumped Storage Power Plant ("Dniester HPP") was launched in December 2013. Dniester HPP will be the largest hydroelectric station in Europe and sixth in the world. The Ministry of Energy and Coal Industry was focused on the installation and start-up of the second hydraulic unit, the completion of a residential house and implementation of a number of obligations in relation to the development of the region. The launch operations at the second hydraulic unit of the Dniester HPP were finished on 20 December 2013. Overall Dniester HPP will consist of seven hydroelectric units with total capacity of 2,268MW.

OIL & GAS SECTOR

Development of gas deposits

The Ukrainian Government has extended the deadline for signing PSAs on the Oleske field with Chevron and the Skifske field with a consortium headed by ExxonMobil until 24 November 2013. The dates were extended at the initiative of the interdepartmental commission for the PSA, Chevron and ExxonMobil. Ukraine held three tenders to sign PSAs on the Yuzivska field (Kharkiv and Donetsk regions), the Oleske field (Lviv and Ivano-Frankivsk regions) and the Skifske field (the deep-water shelf of the Black Sea) in 2012. The winners in the tender to develop the Skifske field were a consortium led by U.S. ExxonMobil (40%, the operator), Royal Dutch Shell (35%), Austria's OMV represented by its Romanian subsidiary Petrom (15%) and Nadra Ukrainy (10%). For the Oleske field, the winner was Chevron, and for the Yuzivska field; Royal Dutch Shell.

Black Sea shelf

Ukraine has entered into a preliminary agreement in relation to the PSA in respect the Skifske field with Exxon Mobil on 25 September 2013. The agreement is a mandatory first step required by Ukrainian legislation before the execution of the actual PSA. It is expected that the exploration works will start as early as the end of 2013. These works will begin with a geo-seismic survey in the Black Sea to determine the drilling zone. According to ExxonMobil estimates, the Skifske field may yield about 8–10 billion m3 of gas annually. The agreement is in line with Ukraine's top priority with respect to energy security to increase the domestic production of gas.

Development of shale gas deposits

In September 2013 an operating agreement on exploration and production at the Yuzivska gas field in Eastern Ukraine was signed between Ukraine and Royal Dutch Shell. This enables Shell to begin exploration works in the region. According to the preliminary analysis, Yuzivska gas field has reserves of an estimated 2 trillion m3. At its first stage the project envisages US$500 million of investment in production infrastructure and exploration. During the exploration phase, the drilling of 15 wells will take place with production expected to begin in 2014. Should the exploration results prove to be commercially viable, the company will proceed to the production stage, with US$10 billion CAPEX involved under the base case scenario. A special premium of US$400 million is to be paid by Shell under this agreement.

Gas supply agreement with RWE

On 5 September 2013 Naftogaz Ukrainy signed a new agreement with Germany's RWE for the supply and storage of natural gas. This agreement envisages the supply and storage of up to 10 billion m3 of natural gas using either the scheme of reverse supplies from the European Union or by swap agreements (pumping the export gas from Russia into Naftogaz's storage capacities and substituting equivalent volumes of gas from other sources across the border). However, this scheme can only be implemented if a contract is signed with the Slovakian gas pipeline operator; and it seems that Naftogaz has not succeeded in reaching the relevant agreement despite long-lasting talks. The price for natural gas in the reverse agreement is more beneficial than the price Gazprom has offered to Naftogaz, yet the history of Naftogaz's gas trade with the EU suggests that the differenceis negligible. Still, this agreement would enable Naftogaz to increase its gas imports from the EU giving it an additional advantage in its negotiations with Gazprom. Ukraine plans to import around 2 billion m3 of gas from Europe in 2013 and 5–6 billion m3 of gas in 2014.

Gas import cuts

In the period between January and June 2013 gas imports to Ukraine dropped by more than 35% in comparison to the same period in 2012 according to information from the State Statistics Service. In the first two quarters of 2013 gas imports to Ukraine reached 10,296 billion m3 with a price of US$4.334 billion. Ukraine imports most of its gas from Russia. It is estimated that the volume of gas imported from Russia in 2013 will reach 18 billion m3. However, total gas imports to Ukraine are expected to reach 27.3 billion m3 in 2013. In order to ensure internal gas consumption as well as transfers of gas to Western Europe during the winter period, Ukraine started to pump gas into its underground reservoirs in mid-July 2013.

RENEWABLE ENERGY

Investment in renewable energy projects

The European Bank for Reconstruction and Development ("EBRD") aims to turn the generation of renewable energy in Ukraine into a reliable source of power supply. Ukraine Sustainable Energy Lending Facility ("USELF"), an investment fund for the financing of renewable energy projects in Ukraine with a budget of €70 million, was launched by the EBRD and the Climate Technology Fund ("CTF"). The EBRD is among the largest financial investors in Ukraine. As of 1 August 2013 the Bank has financed 327 projects in Ukraine with an aggregate investment totalling €8.55 billion. In 2013 the EBRD provided a financing package of €5.4 million to Teplodar PiVi in the Odessa region for the development, construction and operation of a 4.2 MW solar power plant through the USELF. The EBRD has also provided €4.2 million to the privately owned agribusiness company Ecoprod for the construction and operation of a 1.5MW biogas plant. Furthermore, the Novoazovska wind power plant, which is one of the largest private wind energy plants in Ukraine, will be granted an EBRD loan of up to €33.3 million and a parallel loan of up to €15.5 million from the CTF. Novoazovska WPP was commissioned in March 2012 in the Donetsk region. In 2012 it provided 136,000 MWh to the grid. In 2013 it planned to produce 154,000 MWh of "green" electricity.

Wind energy

Ukrainian wind power plants generated more than 317 million kWh of electricity during the first two quarters of 2013 which is 0.33% of the State's total electricity production for this period. The estimated reduction in CO2 emissions reached 256,000 tons due to "green" electricity generated by Ukrainian companies from wind. The construction works have started on a number of sites located in the Luhansk, Zaporizhzhia and Kherson regions as well as in Crimea. The total investment reaches the amount of approximately €84 million. According to the calculations of the Ukrainian Wind Energy Association, national installed wind capacity will reach around 500 MW by the end of 2013. The managing company Wind Parks of Ukraine and Wind Power (DTEK) remains the leader in the Ukrainian wind energy production industry. 12 wind turbines were constructed and put into operation at 6 wind power plants in the first two quarters of 2013. Furlaender Windtechnolodgy won a tender to supply 22 wind turbines each with a capacity of 2 MW to the town of Yereimentau in the Akmola region of Kazakhstan. Production of the turbines is carried out in Ukraine under a licence from Fuhrlаnder AG, a German company. This project indicates the competitiveness surrounding Ukrainian wind turbines within the territory of the former Soviet Union (five Western companies participated in the tender). It is the first modern wind farm to be constructed in Kazakhstan but of more significance to Ukrainian companies is the fact that this is the first wind farm located outside Ukraine where modern MW-class wind turbines produced by Ukraine will be installed.

Bioenergy thermal power plants

It is planned that two thermal power plants ("TPP") using solid biomass with a total capacity of 40 MW are to be constructed by EIG Engineering by the end of 2016. The place of construction of the first 20MW station will be in the town of Dubrovytsia in the Rivne region. The second TPP with similar capacity will be constructed in Horodnia in the Chernihiv region. It is planned that a proportion of the "green" electricity produced by the new TPPs will be sold to the energy system of Ukraine. The approximate amount of investment in the two projects will be around €66 million. In addition, tax revenues for local budgets and trade in the regions will benefit from the purchase of the local non-merchantable timber at UAH 30–40 million a year.

CLIMATE CHANGE AND SUSTAINABILITY

Ukraine has moved up by two places to being 97th in 2013 Index of Energy Sustainability; however, its overall relative energy performance remained almost unchanged.]. In relation to environmental sustainability, Ukraine's energy and emissions intensity occupies almost the highest position in the world. Notwithstanding that Ukraine receives less than half of its electricity from fossil fuels, with the majority coming from nuclear power and a small amount from hydropower, emissions from electricity generation, remain fairly high.

NUCLEAR ENERGY

Ukraine has 15 nuclear reactors generating around 50% of its electricity and the country remains heavily dependent on nuclear energy. In 2004 Ukraine commissioned two new large reactors. The Ukrainian Government does not plan to reduce the share of nuclear energy in total electricity production and is planning substantial construction of new reactors until 2030. In March 2013 the EBRD announced a €300 million loan for the enhancement of reactor safety by the end of 2017, matching the loan of €300 million from Euratom. The project which costs €1.4 billion will develop up to 87 safety measures relating to design safety issues such as improvements to instrumentation and safety control systems, replacement of safety equipment and the introduction of organisational improvements to accident management.

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